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VCMs in Limbo as New Rules Slow to Coalesce

Headway expected H2 2023 toward more coherent, credible framework for carbon trading. 

Efforts to ensure cohesion across carbon markets globally are ramping up, but painstaking progress on improving the integrity of voluntary carbon markets (VCMs) will leave near-term scope for scepticism.  

Anticipated updates on new rules and frameworks from the Voluntary Carbon Markets Integrity initiative (VCMI) and Integrity Council for the Voluntary Carbon Market (ICVCM) are an important “stepping-stone on the journey to the full regulation of VCMs”, Simon Puleston Jones, Co-Founder and CEO of specialist climate-focused advisory group Climate Solutions, told ESG Investor 

VCMs facilitate the trading of carbon credits that don’t count towards companies’ mandatory decarbonisation obligations, such as those under Europe’s Emissions Trading Scheme. 

The VCMI, which is introducing demand-side rules for entities using carbon credits as part of their decarbonisation strategies and net zero pledges, will be publishing its revised Claims Code of Practice later this month. It is also engaging more closely with UN-sanctioned negotiations on global carbon trading rules.  

Following the publication of its Core Carbon Principles (CCPs) in March, the ICVCM, which is developing guidance on the supply side of carbon credit generation, plans to announce CCP-approved programmes and credit types in Q3, enabling programmes to issue CCP-labelled credits soon after.  

“Their [VCMI and ICVCM] work will lead to a genuine improvement in the quality of VCMs,” said Puleston Jones.  

Building up steam 

Regulatory certainty is widely seen as needed to establish widespread and permanent trust in the market, but progress remains slow on finalising the carbon trading-focused articles of the Paris Agreement.  

“Nothing is negotiated in a bubble, and everything is up for negotiation,” said Puleston Jones.  

Alongside these intergovernmental negotiations, regulatory action is likely to be informed by the findings of a consultation on VCMs published by the International Organization of Securities Commissions (IOSCO) last year.  

In recent months, VCMs have come under heavy scrutiny due to press investigations identifying lack of transparency, miscalculations, and inconsistencies in credit quality.  

A recent guide published by Climate Solutions and law firm Simmons & Simmons further noted the absence of “reliable, transparent, available price discovery” across VCMs.  

Nonetheless, voluntary markets continue to be seen as an attractive means by corporates and investors of offsetting CO2 emissions.  

A survey by Refinitiv, a London Stock Exchange Group (LSEG) business, of 190 participants in major emissions trading regimes found more than half are involved in voluntary markets. Of the 85 participants who responded to how VCM activity will evolve in 2023, 53% said they expect higher volumes compared to 2022. 

Finalising Article 6.4 

To ensure alignment between compliance and voluntary markets, it’s pivotal that the work of the ICVCM and VCMI ensures consistency and interoperability with the wider discussions to finalise Article 6.4 of the Paris Agreement, experts told ESG Investor. 

Article 6.4 facilitates the development and implementation of a framework for a multilateral carbon credit market with a centralised project authorisation system administered by UN Climate Change that will approve high-quality carbon credits from projects globally. These credits will be labelled A6.4ERs.  

Progress on ongoing 6.4 negotiations, which cover what type of credits can be traded as A6.4ERs, will be reported at COP28 and will be finalised by COP29. 

“It will send a strong signal to stakeholders operating in VCMs if 6.4 rules require a high level of transparency around carbon accounting or establishing quality projects,” said Aurelia Britsch, Senior Director of Climate Risk and Sustainable Finance at Sustainable Fitch.  

Last week, the VCMI announced it had joined the Paris Agreement Article 6 Implementation Partnership, which was launched at COP27 by Japan to facilitate an understanding of Article 6 rules and linkages to nationally determined contributions (NDCs), share good practices of institutional arrangements, conduct mutual learnings and trainings, and support a baseline methodology and tool development.   

As of the end of April, 66 countries and 32 institutions had signed on to the partnership. 

By also joining, the VCMI aims to support host countries as they integrate VCM finance into their plans to meet and enhance their NDC commitments and “implement the rules and modalities necessary for carbon market activities to be recognised under Article 6”.  

“VCMs are one of the tools needed to reach net zero on a global basis, not just country-by-country or company-by-company,” said Britsch. 

“The fact that we are seeing this increased collaboration between a traditional VCM player like VCMI and the Paris Agreement Article 6 [discussions] is definitely an encouraging sign and will help establish best standards [across carbon markets].” 

New NDCs are expected to be issued by governments after COP28, which will see the finalisation of the Global Stocktake on collective progress toward the goals of the Paris Agreement.  

Piece of the pie 

Government intervention in VCMs has been rising, according to a new Sustainable Fitch report, with countries increasingly keen to ensure they are fully compensated for the carbon they capture in local projects. 

“As Article 6 takes shape, countries that supply credits (hosting carbon credit projects) will increasingly value their natural resources eligible for carbon credits,” the report said.  

“They may seek to generate revenue for the state, via taxes and regulations, or to use domestic carbon projects towards their own NDC – in which case they are likely to regulate and sometimes restrict export volumes to avoid the same credit being double counted.” 

Last month, the government of Zimbabwe established a national carbon credit framework, stipulating that the government will take 50% of the revenue generated from carbon credit projects, with foreign and local investors entitled to 30% and 20% respectively. 

“Ultimately, the ones who will decide [on national VCM rules] and have the right to decide are the host countries themselves,” said Maria Kolos, Carbon Market Analyst at Refinitiv.  

Puleston Jones from Climate Solutions said the rise in sovereign VCMs reflected governments increasingly realising “the potential value” of these markets.  

He said: “In a time of financial pressure across the world, we are seeing governments be more assertive of their ownership of potential carbon credits. If players in the VCM wish to conduct projects in their country and claim the carbon for themselves, then they will need government approval.” 

However, it is currently unclear as to how compliance, voluntary and sovereign markets play out together, Puleston Jones said.  

Other outstanding issues include companies’ growing appetite to adopt both a buyer and seller role in VCMs, how to price biodiversity credits, and the differences between nature-based and tech-based carbon removal projects.  

Although slow, regulation is “coming at the right time”, said Puleston Jones.  

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